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Starbucks (SBUX) is a global name in the coffee business. Its growth has been tremendous over the past few years, and it has clearly been visible in its stock price movement after the stock fell to the level of around $10 in the early 2009 due to economic meltdown. At that time, people were not willing to spend $4 on coffee amidst unemployment fears, leading to a drop in sales for the company that ultimately resulted in the fall of its stock price.

The company closed down its inefficient stores and started diversifying to other beverages and food in its menu. Since then the stock has given its investors a return of a whopping 500%. Currently, the trailing 12-months P/E ratio is 31.5 and the forward 12-months P/E ratio is 25.5. These are higher than the P/E ratio of restaurants and bar industry average and even more than the P/E ratio of the consumer service industry average. But this doesn't mean that the stock is overvalued and needs correction. Rather, there are reasons to believe that the upside movement will continue in future-

  1. Expanding international footprint
  2. Innovations and diverse offerings
  3. Strong fundamentals

Expanding international footprint

The company is a market leader in the U.S. coffee market. Its market share in the U.S. is more than 33%, while it is less than even 1% globally. The company plans to have 20,000 retail outlets on six continents by 2014. The recent efforts of the company to geographically diversify will surely help in penetrating the emerging markets of the world as well. The company expects to double the staff in Asia-Pacific region to 40,000 over the next five years. This is a signal of the expansion strategy that the company is planning.

The growth in the revenues in this region was the highest in the quarter ended March 31, as compared with the total revenue growth. The major focus region for the company is China, where it expects to have more than 1500 stores as compared with 700 currently. It has also recently entered in India, the country with the second-highest population in the world. India, one of the largest coffee producing countries in the world, is historically ranked very low when it comes to consumption. But this trend has been seeing some deviations. India's coffee consumption has doubled over the last decade and this presents a tremendous opportunity in front of Starbucks.

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Innovations and diverse offerings

The diversification strategy for the company is not just limited geographically. It has also been trying to diversify in terms of the products it offers. That's the reason why it has acquired the tea specialist Teavanna, juice maker Evolution Fresh and bakery chain La Boulange.

The company is pushing into supermarkets around the world and devising innovative payment platforms like pre-paid loyalty cards and mobile applications. Starbucks' loyalty card saw more than $1 billion worth of recharges in the first quarter of 2013, a new high for the company.

The company is also trying to expand vertically in its supply chain. It has recently bought a coffee farm in Costa Rica. The new farm will complement Starbucks to develop proprietary new coffee varieties through hybridization.

The company has recently announced a price cut in its package coffee by 10%, from $9.99 to $8.99. This step is an effort to capture the middle end of socioeconomic scale. This is in continuation to its announcement last month to expand its loyalty program to grocery stores as well.

With these innovations in terms of the product offerings, payment systems, vertical integration, the company is poised to garner more market share in the huge coffee market in the U.S. and around the world.

Strong fundamentals

In its first-quarter result, the company announced an 11% increase in its total revenues, with its operating margin further expanding to 16.6%. This operating margin is better than the 10-year high for the company. The coffee bean price is currently at its 33-month low. This has further led to an increase in the margins for the company. EPS also increased 14% to a record $0.57 per share as compared with $0.50 in the same quarter last year. Operating cash flow has also doubled in the last five years. The company has enough cash to pay off its debt. Its annual dividend yield is around 1.4%, with a payout ratio of around 40%. The optimism of the chairman, president and the CEO of Starbucks to achieve the goals the company has set for itself around the world should be very encouraging for the investors. This optimism stems from the strong performance that the company showed in the last quarter.

Competitors

McDonald's (MCD) has emerged as a major competitor for Starbucks in the coffee segment. MacDonald's offers McCafe at a much lower price than that of a coffee at Starbucks. Since its presence is much more, and it offers a much wider range of choice to the consumers, it poses a threat to Starbucks. The stock of the company is not going through a great phase as of now, but its potential to give considerable returns due to robust growth forecasts is worth keeping an eye on by Starbucks.

Dunkin' Brands (DNKN) became public less than two years ago and makes more than 50% of its revenue from coffee and other drinks. The stock though has been quite volatile; it has achieved higher highs throughout. This means it has been following an upward trend. The P/E ratio of the company is higher than the industry average and the growth forecast is quite robust. The company affects the sales of Starbucks because of its diverse menu.

Conclusion

The strong performance of the company in recent few years has been an indication about the progress that the company has been making due to its strategies. It has been continuously growing its footprint in the emerging markets of the world. This is believed to help the revenues keep growing at a rapid rate despite a slow growth in the U.S. market. It has also been increasing the range of products that it offers like tea, juice etc. by acquiring a number of companies. Along with these growth prospects in future, the company's low debt and considerable amount of cash can be believed to increase the dividend yield for the investors in future. An investor holding the stock right now should keep holding it for the middle to long term for capital gains. Others who are not yet invested may want to buy it the next time it touches the support level of $57.

Source: 3 Reasons Why You Should Hold On To Starbucks